CAPE Ratio (Shiller P/E)

The CAPE ratio, short for cyclically adjusted price-to-earnings ratio and also called the Shiller P/E after the economist Robert Shiller, is a price divided by the average of the last ten years of earnings, with every year's earnings first adjusted for inflation so they are all in today's money. It works like the ordinary P/E ratio, but instead of using one year of profit, which can be unusually good or bad, it uses a ten-year average to smooth out the ups and downs of the business cycle. It is most often quoted for a whole stock market index rather than for a single company. It describes how much investors are paying for long-run earnings; it is not a prediction of what prices will do next.

Worked example

Why it matters

Profits swing with the economy, so a P/E built on one year can look very low at the top of a boom and very high after a bad year. Averaging ten years of inflation-adjusted earnings gives a steadier view of what a market's earnings power looks like over a full cycle. The limits are real, though. The CAPE says how highly priced earnings are compared with their own past, not when prices will turn, so it is a poor tool for predicting turning points. Accounting rules and the mix of companies in an index change over the decades, which makes comparisons across long periods shaky, and a ten-year average lags behind a real shift in a business. Different data providers also calculate it slightly differently, so always check which one you are reading. A high or low CAPE is a question to look into, not a verdict.